Following its upgrade of Greece’s sovereign ratings to B- from ‘restricted default and the placement of the ratings on stable on 13 March 2012, Fitch Ratings has published a special report further examining the factors behind this rating action.
Greece’s distressed debt exchange attracted an 86% participation rate from private sector holders of Greek government bonds. Activation of ‘collective action clauses’ on the Greek law bonds raised the participation rate to 96%. Fitch deemed this sufficiently high to judge the default event ‘cured’, notwithstanding potential ‘hold-outs’ on some foreign-law bonds, the treatment of which should become clearer later this month.
Fitch says that assuming all bondholders eventually participate, private sector involvement (PSI) should shave €110bn off of Greece’s public debt stock, significantly improving the debt service profile and reducing the risk of a recurrence of near-term repayment difficulties. Nonetheless, Fitch believes that material default risk remains in light of the still high level of indebtedness post-PSI – Greece assumed substantial additional liabilities to fund PSI and recapitalise its banks – and the profound economic challenges that the country faces.
Post-PSI, debt service on the newly restructured bonds will make minimal demands on the budget and the balance of payments, while the new €164bn EU-IMF programme should ensure that Greece is fully funded throughout 2012-14. Fitch argues that this, coupled with heavy front-loading of disbursements and the provision for a build-up of modest cash buffers over the life of the programme, should offer PSI bondholders a limited margin of safety over the next 12-24 months.
PSI and the attendant official sector involvement (OSI) necessary to complete the distressed debt exchange will transform the creditor composition of Greek general government debt. By end-2012 Fitch estimates that official creditors’ share will have risen to 75% from 38% at end-2011, while private creditors’ share will have shrunk from 62% to 25%. Given the low debt service costs on PSI bonds, Fitch believes that Greece would have little to gain by subjecting PSI bonds to any further debt restructuring.
Fitch estimates that PSI will forestall the rise in public debt/GDP in 2012 from its end-2011 level of 165% of GDP. However, fiscal deficits and a further decline in nominal GDP mean that debt/GDP will rise towards 170% in 2013, before falling from 2014. Greece’s ability to realise a debt/GDP ratio of 120% by 2020 will be determined by the political willingness to implement further fiscal and structural reforms and the ability of the Greek economy to adjust and recover.
Fitch reiterates that the sustainability of Greece’s public finances and its continued membership of the eurozone depend upon the implementation of structural and fiscal reforms and their effectiveness in laying the foundations for a sustained economic recovery. PSI and OSI have given Greece a window of opportunity, but it will entail a challenging internal devaluation if the programme is to succeed, with little prospect of substantive economic recovery before 2014.
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